Points
– To Pay or Not to Pay: That is the Question – Part
1
I
can think of no single issue on which borrowers
are more confused about than paying points. At
one end of the spectrum you have those who believe
that there are some lenders who charge points and
others lenders who don’t. At the other end are
those who believe that they are getting something
for free. In the middle are those who might consider
paying points if they knew the benefits, but they
are not quite sure how to do the calculations.
The
first group doesn’t understand that virtually all
lenders offer about a dozen rate- versus-fee alternatives
on every loan. They may not tell you that, but
the alternatives always exist. Here is what about
half of a typical rate sheet looks like.
Rate-%
Points Breakeven
period
6
zero
5.875
.5
4 years
5.75
1
4 years
5.625
1.375
3 years
5.5
2
5 years
Now,
the loan rep (salesman) may only tell you about
one of them. For example, most sales people are
trained to expect clients who don’t want to pay
points, so if you ask them for a rate, they will
typically quote one with no points. They are used
to having people say, “Yes,” to this one, so unless
you ask for other pricing alternatives, that’s the
only one you’ll get. If you ask, you may just
get one other alternative, like paying one point,
but there are five here and another seven I didn’t
show you.
If
you are going to make a decision, you want to know
all of them. They exist and there is no reason why
your loan rep shouldn’t give you a print out of
information that is right in front of him, either
on a piece of paper or on a computer screen. Actually
there is one reason: the loan rep may be setting
you up so he can make a little more money by taking
advantage of you once you’ve got you wallet open.
Therefore,
they will usually balk at giving you the information.
They may even stonewall you, but it is vitally important
to you. If he refuses to give you the information
you need, get up, walk out, and find a more cooperative
lender, or ask to speak to the boss. Be firm in
your resolve to get this information.
Here’s
the lowdown on points so you can do the calculations
once you have the information. Start out assuming
that you will pay no points, UNLESS you find that
it is to your advantage to do so. The trick is
to find out how quickly you get your money back.
Let’s
look at the first two alternatives in the chart.
You can see that the rate is lower by one-eighth
of a percent for each one-half point you pay up
front. If you pay a full point, you get a rate
that’s one-quarter percent lower. That may not
sound like much but on a $100,000 loan, one point
is $1,000 and the one-quarter percent reduces the
annual interest cost by $250. That’s equivalent
to a 25% return-on-investment. Leave that $1,000
in the bank and what interest do you get? These
days you’d get about $10. Note that with that
$250 reduction in interest, it will take only four
years to get your $1,000 back, a four-year break-even
period.
Going
back to the chart, you can see that the next buy-down
only costs another .375 points for the next one-eighth
reduction. That’s a three-year breakeven, which
is terrific. They next one after that is five
years, not very attractive.
The
question is, “How long are you going to be in the
home?” Obviously, if you aren’t going to be there
that long, you shouldn’t pay points. If you plan
on being there for, say, ten years, your total interest
rate savings approach $2,500. How many investments
give you that kind of results? Better yet, the
return is locked in the moment your loan funds.
It can’t change or drop like your 401(k) did.
So to determine if it’s good to pay points, just
figure out how long you are likely to own the home.
Oh,
yes. We forgot to talk about the guy who thinks
that he’s getting something for nothing. You can
tell who he is. He’s the one with the turnip truck
parked outside.
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